Petrillo: Did McCain mean it on cost-plus?

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It’s not often that acquisition policy becomes a presidential campaign issue. But in the recent town hall debate, Republican candidate Sen. John McCain said he would ban cost-plus contracts. His opponent, Democratic Sen. Barack Obama, didn’t respond.

McCain’s objection to cost-plus contracting is part of his plan to cut government spending because he links them to cost overruns. McCain proposes “fixed-cost” contracts — usually called fixed price — as the solution.

There are a few problems with this proposal. Cost-plus contracts make sense when the government can’t specify requirements, for instance in research projects or early-stage software development. They are a useful tool for contracting at the leading edge of innovation. They can also play a role in times of great uncertainty, such as stabilization and reconstruction efforts, such as those in Iraq and Afghanistan.

Also, it’s doubtful that cost-plus contracts are the primary cause of cost overruns. More often, the culprit is requirements creep — government program managers piling new and different demands onto emerging systems. Bloated programs cost more and take longer to develop and produce.

In the 1960s, then-Defense Secretary Robert McNamara launched an intensive effort to cut back on cost-plus contracts and substitute fixed-price contracts. However, the overruns didn’t go away. They simply mutated into contractor claims. Millions of dollars in claims under fixed-price contracts dragged on for years in litigation. Ultimately, the government had to foot the bill for program changes. In 1970, another Defense secretary, David Packard, abandoned this failed experiment.

Even so, cost-plus contracts have some major drawbacks. There’s little incentive to cut costs when you know they will all be paid. As some procurement experts say, “when you’re on cost-plus, even the mules know it.” The customary cure for this tendency is more government oversight of contractors. Although it might be necessary, the oversight adds costs, directly and otherwise. Anyway, most agencies these days are too overstretched to monitor contractors closely.

Limiting cost type contracts to the minimum necessary is probably a good idea.

Whenever the government can define its requirements better and earlier, it can shift to a more efficient fixed-price contract. Doing that requires an upfront investment of resources to reap lower contract costs later. An agency might decide that it can’t afford this investment. But if it decides to use a cost-plus contract unnecessarily, the agency will probably pay more in the end.

So cost-plus contracts are fine, as long as they’re not abused. As a senior member of the Senate Armed Services Committee, McCain must know that a ban on cost-plus contracts is impractical and won’t solve the overrun problem. It is just another instance of campaign rhetoric — one that, after Election Day, will end up in the dustbin of forgotten promises, no matter who is the next president. n

Petrillo is a lawyer at Washington law firm Petrillo and Powell. He can be reached at jp@petrillopowell.com.

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